MANILA (BLOOMBERG) – Emerging Asian economies have accumulated their highest level of foreign exchange reserves since 2014, providing a powerful buffer against market volatility if the US Federal Reserve changes course.
Central bank holdings of foreign currencies in the region’s rapidly growing emerging economies reached US $ 5.82 trillion (S $ 772 trillion) last month, their highest level since August 2014. When the cash flow of China is depleted, emerging Asian central bank reserves stood at an all-time high of US $ 2.6 trillion.
While some of the gains reflect the weak US dollar and exceptional exports, policymakers are deliberately preparing their defenses, said Nicholas Mapa, economist at ING Groep in Manila.
“Emerging economies are certainly learning from the past by going to war,” Mapa said. “They are all the more aware of the possible reversal of the monetary policy stance of central banks in developed markets and the potential repercussions that could result from a Fed slowdown or a possible rate hike.”
While the Fed is expected to maintain an accommodative outlook at its meeting this week, economists say the acceleration of the US recovery means the bank will have to signal a political turn earlier than expected. The central banks of South Korea and New Zealand have previously said that improving their economies could possibly justify higher interest rates.
A signal from then-President Ben Bernanke in 2013 that the Fed would start cutting back on asset purchases sent shock waves through Asia, an episode known as “Taper Tantrum.” Foreign investors fled and bond yields soared, forcing central banks to burn down their defenses to protect their currencies. Rising yields have historically triggered currency volatility and drive up borrowing costs in the region.
Any hint of a Fed change on the cut will quickly test defenses, including current account surpluses and currency holdings, said Tuuli McCully, Asia-Pacific economics manager at the Scotiabank.
“There are significant differences between countries in the region, and some will be more vulnerable than others to financial market volatility and capital outflows,” she said, citing Malaysia and Indonesia as countries with lower reserve coverage rates than their peers.
Yet this time around, Asian central banks can face any change from Fed Chairman Jerome Powell with a wall of monetary firepower.
China’s foreign currency holdings hit their highest level in five years in May at US $ 3.22 trillion, on the back of a weaker dollar and increased portfolio inflows.
Indian authorities, still scarred by Taper Tantrum, have accumulated record foreign exchange reserves worth more than $ 600 billion. Earlier this year, the country’s reserves briefly exceeded those of Russia to become the world’s fourth largest, as the central bank racked up dollars to protect the economy from any sudden outflows. Reserve Bank of India chief Shaktikanta Das said the buffer would help protect Asia’s third-largest economy from global fallout.
In the Philippines, central bank reserves are expected to hit a record high of $ 114 billion this year, while Taiwan’s holdings reached $ 542.98 billion last month, just below February’s record.
South Korea hit a record high of $ 456.46 billion last month.
Indonesia’s reserves fell from a record low to US $ 136.4 billion in May, their lowest level in five months, as the government repaid its external debt. The central bank, which will decide its key rate immediately after the Fed meeting, should be firm in protecting the damaged rupee from further outflows of foreign capital.
DBS Bank economist Radhika Rao said: “Compared to 2013, countries in the region, especially those most affected, are in a less vulnerable position.